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Mean Reversion of Standard & Poor's 500 Index Basis Changes: Arbitrage-Induced or Statistical Illusion?

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  • Miller, Merton H
  • Muthuswamy, Jayaram
  • Whaley, Robert E

Abstract

Mean reversion in stock index basis changes has been presumed to be driven by the trading activity of stock index arbitragers. The authors propose here instead that the observed negative autocorrelation in basis changes is mainly a statistical illusion, arising because many stocks in the index portfolio trade infrequently. Even without formal arbitrage, reported basis changes would appear negatively autocorrelated as lagging stocks eventually trade and get updated. The implications of this study go beyond index arbitrage, however. The authors' analysis suggests that spurious elements may creep in whenever the price-change or return series of two securities or portfolios of securities are differenced. Copyright 1994 by American Finance Association.

Suggested Citation

  • Miller, Merton H & Muthuswamy, Jayaram & Whaley, Robert E, 1994. "Mean Reversion of Standard & Poor's 500 Index Basis Changes: Arbitrage-Induced or Statistical Illusion?," Journal of Finance, American Finance Association, vol. 49(2), pages 479-513, June.
    • Handle: RePEc:bla:jfinan:v:49:y:1994:i:2:p:479-513
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